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January 20, 2011

LPL’s Next Step After IPO? Deleveraging and Allocating Capital

Coming out of the quite period occasioned by LPL Financial’s going public, CEO Mark Casady (left) and CFO Robert Moore painted a picture of a very well-capitalized company with plenty of free cash flow to devote to deleveraging the company’s debt while also planning to increase by 50% its technology spending in 2011.

In an interview Thursday in New York, Casady noted that LPL has long had ‘shareholders’ of various sorts before going public as the largest independent broker-dealer last fall, and that he felt confident that the key to continued success since going public was to “focus on the right thing” for its public and private equity shareholders, while serving its independent BD rep “customers” by aligning those different constituencies’ needs.

“We’ve grown profits by 20%” over the past few years, he said, suggesting that profitability could increase by that same margin in the next few years. Casady said the company could consider instituting dividends or stock buybacks over the next few years “because we have the capital,” but said that “if we have $250 million in free cash flow,” the company could devote a quarter of that amount, or $50 million, to investing in the business, which he characterized as continuing a “circle” under which adding high-producing reps to its advisor workforce would grow the top line, helping deliver the profits to help feed that cash flow for its private equity owners and its public shareholders, all while benefiting its affiliated registered reps, many of whom, he noted, were dually registered.

CFO Robert Moore said in the interview that “deleveraging is a priority for us,” but not “too far” so as to imperil its BBB credit rating, while producing the “same amount of earnings.”

As for recruiting, Casady said going public has “helped because of the transparency.” Since the IPO, he said it had become easier for its affiliated advisors to “explain who LPL is to the end clients.” It’s been company policy to “not focus on the stock price,” while Moore said the advisor stock option plan that the company has had in place for several years “will continue to be used,” not upfront as a recruiting lure, but as a reward of sorts for larger producers.

Casady said that part of its reward for advisors of long standing with LPL before going puclic was that there was a “zero cost basis” for the stock options that were awarded to advisors in 2005, pointing out that LPL’s stock is now trading at $30/share. “Eight percent of our advisors have ownership” now, said Casady, while stressing that LPL’s strategy was “more about scale than going public.” Part of the reason for going public in 2010, agreed Casady and Moore, was to provide to its then shareholders, especially its advisors, the benefit of the lower capital gains tax then existing under the Bush-era tax cuts, since extended under the compromise worked out at year's end between President Obama and Congressional Republicans.

Casady trumpeted the fact that “we lose only 3% of revenue” from its advisors each year, which he said was half of what the company lost in rep production when it was much smaller.

“There’s something to scale,” he said, mentioning the 34 business development consultants that LPL has on staff, in addition to “the best distribution agreements in America” with investment product providers.

As for future growth, Moore said that “planning assumptions of adding 400 advisors a year” was accurate, and that while LPL had grown profitability by

20% over the past few years, “an adjusted EPS growth of 20% over the next five years” was also attainable.

“We had to get to scale,” recalls Casady, but not for “size alone,” though he noted that LPL is now in fifth place in revenues and third in advisor headcount among all broker-dealers.

As for the SEC activity in the same week the interview was held regarding an SRO for RIAs and a fiduciary standard for all advice givers, Casady said “we’ve been advocates for a fiduciary standard,” though he added that “we think there should be exemptions” from that standard, such as when a wirehouse offers an IPO.

He said he was “disappointed” specifically in the SEC’s Wednesday night recommendation on an SRO for advisors, and expressed hope that “logic would prevail” and that Congress can be “persuaded to do something intelligent” with the SEC’s three options for regulating advisors moving forward.

He did sound a warning, however, with another provision of Dodd-Frank: that advisors with less than $100 million in assets under management would be moved to state supervision rather than being regulated by the SEC. He worries that there may become a new “dark corner of the industry” on the horizon where “fraud on the small scale” could be pepetrated by advisors operating under state jurisdiction.

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